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The Brave Report: Market Commentary for June 2021

Click here for .pdf version of this report: The Brave Report-June 2021

Time to take a breath…. After the torrid start to the year, we finally saw the markets stop a take a breath.  While the country continues to reopen and the prospects of a more “normal” summer seeming quite real it is now time to take an assessment of how much the recovery is priced in and what the next catalyst to push the market higher will be.  So far this year, the theme has been some weakness across the tech landscape, and the reopening trade taking center stage.  Many of these reopening trades have driven the Dow and the S&P to outperform but there are still several questions surrounding this trade.  How quickly will these companies return to pre-pandemic fundamental performance? And will any actually benefit in the long-term from the efficiencies gained during the year?  There is obviously some pent-up demand that should help benefit the travel and leisure sectors in the short term, but we will still have to wait and see if this type of demand has staying power.  For now, the markets are taking a moment to digest how far we have come and figure out if some of these names or sectors have moved past their fundamental expectations.

Market Overview

The major indices produced mixed results over the past month as the markets took a breather.  The Dow Industrials advanced just shy of 2% while the NASDAQ lost 1.5%.  The S&P 500 finished the month slightly positive.  After the start we have seen to the year I am not surprised to see a little consolidation and I wouldn’t be surprised if we saw some continued range-bound trading as we continue to see the economy open up.  These kind of consolidation periods are key for continued bull runs and can allow fundamentals to catch up with stock prices, especially in some of the reopening trades. As I mentioned last month, there are some areas where this consolidation has been going on since last summer so I would expect these names and sectors to be the ones that lead the way higher.

On the fixed-income side of things, we also saw some range-bound trading.  The 10-year treasury started and ended the month yielding right around 1.6%.  The theme here remains the same as we debate the potential of inflation and how soon the Fed needs to change its accommodative stance.  Economic data continues to be strong, but the Fed has yet to hint at any major policy shifts in the short term.  With the economy continuing to open up and increased government spending on the horizon there is a risk that the economy overheats a bit but I think we still have quite a ways to go before this becomes an issue.

Over the past few months, we have continued to see the recovery trade outperform while many of the stay-at-home trades, that did so well during the pandemic, have lagged. On the surface, this makes sense.  The stay-at-home names saw their revenues skyrocket last year while the more economically sensitive names lagged due to the uncertainty around the pandemic.  With the economy opening up around the country, this narrative has reversed, and capital has flowed back toward the economically sensitive names.

Moving forward, however, I would make the argument that it doesn’t have to be one or the other.  While the surge in revenue we saw for some companies last year is not sustainable, the pandemic has had some long-term impacts on consumer behavior and how the workplace operates. These changes accelerated the adoption of technology across a lot of parts of our lives and helped to create efficiencies that will have a meaningful impact on corporate results. As we have seen some of these stay-at-home names lag, I would look at this as an opportunity to identify those companies that have been able to transform their business due to the pandemic.  Not all companies that saw a surge in revenues last year will be able to use it to sustain long-term growth but there are a number of names that have and will be able to use these changes in behavior to springboard their companies further.

On the flip side, with money flowing into the recovery trade, I would be cautious to just start throwing money into some of these more economically sensitive names.  Yes, there is a major pent-up demand right now that will translate into increased spending across many industries but that doesn’t mean all of these names will prosper in the long run. There has been the tendency to just start putting money into travel and leisure names, but we must still be prudent in assessing which companies are able to translate this increased demand into long term-sustainable growth.  We must understand that some consumer behavior has changed forever.   The companies that have been able to adapt to this changing landscape will be the ones that will attract new capital past this quarter or next.

As we have seen this recent consolidation, I also think the markets are looking for their next big catalyst to initiate the next leg higher.  Much of this increased demand has already been priced into a lot of sectors and we are now in an environment where second a third-quarter results will need to justify these prices.  We saw a similar scenario play out last quarter as a lot of earnings results in big tech were sold because so much of their stellar results were already priced in.

With several spending bills on the table and uncertainty about inflation still lingering there are a number of things that could be the catalyst for the next move.  With underlying fundamentals being strong already I do not think this catalyst needs to be something groundbreaking but could just be these variables being in line with expectations and providing no surprises to the downside.  If we can get through some of these spending bills with inflation still in check, we could be entering a goldilocks scenario for the economy.  The markets just need to continue to take a breather while some of these variables shake themselves out

Strategy Commentary

Over the past month, my overall allocation has changed very little so this strategy commentary will be a bit boring this month.  We have seen some of the consolidation that I discussed last month but no substantial pullbacks.  With economic fundamentals continuing to be strong I will look to add to my equity allocation if we do see any weakness over the next month.  With the economy continuing to open up I think we could see a very strong 2nd quarter as some of the pent-up demand is released.

Domestically, I am still overweight technology and while it has lagged over the past few months, I don’t see any imminent changes.  I missed the boat on some of the reopening trades but at this point, I don’t think it is worth chasing as they have run pretty far already this year.  I will be watching the spending negotiations closely over the next few months, as the outcome could have a great impact on which sectors outperform in the 2nd half of the year.  I am still biased toward quality rather than the more speculative names.  I am comfortable missing out on some short-term runs in some profitless individual names.

Internationally, I am starting to look a little at Europe.  I haven’t added to any positions yet but I have had a reduced allocation to the region for a while now and will be watching closely to see if bringing this to a normal allocation level would be prudent.  I continue to like China in the emerging markets. I think that some other EM countries still have a long fight ahead of them with the pandemic so for now I am staying away.

On the fixed-income side, my positioning has not changed.  I am still holding extra cash as a proxy and until we get some directionality from rates, I am comfortable avoiding the potential risk of rising rates.